MoviePass Bankruptcy Watch

posted by Adam Levitin

The financial travails of MoviePass and its parent company Helios & Matheson caught my eye today. I almost never go to see movies in theaters, so MoviePass was an unfamiliar business to me, but the basic idea is that the consumer pays an upfront subscription fee and then MoviePass provides an unlimited number of tickets for the consumer (although one per show, and more recently with various additional restrictions): basically an all-you-can-eat buffet model applied to movies. The buffet model requires the Jack Sprats of the world to subsidize their wives: those who go to the counter once and get low-cost foods are subsidizing those who make multiple trips for the foie gras, etc. The buffet model can work for a few reasons. First, there is a limit to how much anyone (except Joey Chestnut) can eat. Second, people often go to restaurants in groups, which means that there will be some Jack Sprat wives in the mix. Third, there are sales of other items (drinks, liquor) that can offset the buffet to the extent it's a loss leader. And fourth, the buffet can be priced high enough that it won't lose too much money.

MoviePass doesn't seem to have many of these factors working in its favor. People can watch a lot more movies in a month than they can make trips to a buffet table in an evening. There's going to be an adverse selection of heavy users among subscribers, and they don't bring along Jack Sprat wives--the extra business of friends who come to the theater doesn't go to MoviePass, but to the theaters. And MoviePass doesn't have much in the way of other sale items to offset losses on tickets. OK, so we've got a really bad business model that will only work if lots of people sign up, but don't actually go to the movies. This strikes me as different from other subscription models, like gyms. People are likely to overestimate their likelihood of going to the gym. My guess is that they are much less likely to overestimate how often they'll go to the movies.

Well, this is all very interesting, but what does it have to do with Credit Slips? Three things, I think, one dealing with payment systems and secured lending, and the other two dealing with bankruptcy, which seems to be where this is all headed (assuming that MoviePass is not run out of a bankruptcy remote entity).

1. The Payments Issue.

It seems that as MoviePass's losses mount, it's facing liquidity issues, and its parent, Helios and Matheson, took out a $6.2M 10-day loan. The loan proceeds were only $5, with another $1.2M OID, so the APR was something like 876%! The loan was repaid a few days later. Helios is rather cagey in its 8-K about need for the loan, saying that it is necessary to pay its payment processors. So what could that be about? One possibility is that there are a LOT of chargebacks that the processor (by which I think they really mean the acquirer bank) is seeking to recover. But more likely is that there are a LOT of chargebacks and more are anticipated, so the acquirer bank has required a compensating balance as collateral against those chargebacks. If MoviePass goes under, the acquirer is on the hook for the refunds for the undelivered, but paid-for services that were put on credit cards. The acquirer might also have starting holding back part of the proceeds of sales in order to beef up the funds on deposit that it can look to as collateral. But a compensating balance increase is basically a margin call. When that happens it's usually a sign that the ship is going down.

2. Bankruptcy Issue #1: Voidable Preferences?

If there's a bankruptcy looming, there's a 90-day preference clock a-ticking. Certain pre-bankruptcy transfers can be avoided, namely those made to/for the benefit of a creditor on account of a pre-bankruptcy debt during the 90-day pre-bankruptcy period (when the debtor is presumed insolvent) that enable the creditor to do better than it would without the transfer in a hypothetical Chapter 7 liquidation. So there are two possible preferences here. The first is any sort of compensating balance requirement increase in the 90-days before bankruptcy. And the second is the repayment of the short-term liquidity loan itself. The loan was secured by the proceeds of a stock sale that just closed. If the proceeds were less than the loan amount or the security interest in them wasn't perfected, then we'd have a preference, so the lender could be forced to return the loan payment and would be left with an unsecured claim in the bankruptcy for $5 million plus whatever part of the OID had accrued. I don't know enough factually to say more here, but if I were the lender I'd feel much better if MoviePass is still not in bankruptcy once November rolls around.

3. Bankruptcy Issue #2: Customer Deposits

If there is a bankruptcy, then I'd expect there to be a lot of customer deposit priority claims (507(a)(7)) claims if MoviePass doesn't honor its subscriptions during bankruptcy. What's not clear to me is whether an acquirer bank that is stuck with a chargeback for a subscription is surrogated to such a priority. Either way, however, this is probably very bad news for any general unsecured creditors of MoviePass.

Comments

I find it fascinating how quickly you dismiss the business model. I would argue many companies are pursuing the same strategy: aggregate users/subscribers to achieve critical mass at the cost of significant negative free cash flow, then, and only then, figure out how to monetize it.

I don't disagree with your analysis, but you could say very similar things about netflix for instance. I must admit, Moviepass does seem just plain stupider than netflix or many other startups.

However, I could imagine a business plan where they achieve critical mass, negotiate discounts with the theater chains, get special viewings for subscribers, up the price, create a premium subscriber, mine/sell the data, etc., etc., blahblahblah...

I realize you're more interested in the bankruptcy element, but even that I think is applicable across a spectrum of similar business plans.

It is a winner-take-all approach, with untold spoils for the winner, and less-than-empty recoveries for losing creditors.

K2--I don't dismiss the all-you-can-eat business model. It works in some cases. But I don't think it can work for movies except if offered by a theater that is just disposing of otherwise empty seats. Merely aggregating subscribers at negative cash flow without a plan for how to monetize them looks like, gosh, Tesla.

As for Netflix, the verdict's still out. It's burning cash like mad because it's trying to shift from licensing content to producing and owning its own content. I'm far from convinced by that model. For it to work, it's not enough for NF to increase the amount of owned content available. It also has to shift the viewing from licensed (and that includes licensed originals) to owned content. Even if the owned content is good, there's still going to be substantial demand for licensed content, and the question is whether NF can shift the balance enough fast enough. Color me skeptical.

MoviePass and NF share another problem as well. They don't benefit from network externalities the way, say, Facebook does. If I want to switch to a new social network, I lose all of my FB content and will have to rebuild a network of friends. If I switch to another NF-like service, what have I lost? A subscriber aggregation model with network externalities creates a level of lock-in (and competitor lock-out) that MP and NF (and Uber and Lyft) don't have.

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